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Transfer Pricing part 3 – Capacity limitations - ACCA Performance Management (PM)

VIVA Subject Guide

36 Comments

  1. Sara
    Hi,

    So I was confused by the answer in the video.

    But based on the previous lecture- the minimum price is marginal cost + lost contribution. 70 + 40 ( because for every hour we make Y they lose contribution of two units of X, so 20 * 2)

    Is this a correct way to solve?
  2. Franco
    Hi John,

    I am a little curious, why would the minimum transfer price not be 70 (marginal cost) + 1 (loss in contribution per hour, 4-3) * 10 (hours of producing Y) + 20 (lost contribution of selling instead of externally) = 100?

    Many thanks!
  3. Franco
    Sorry, the lost in contribution instead of selling externally should be 30, which would also arrive at the transfer price of 110. Is this also an appropriate way to get to the transfer price?
  4. John MoffatTutor
    Yes - it is effectively the same as what I do in my lecture :-)
  5. JojoBeat
    Hey Sir,
    If they told labour hours are unlimited but demand is limited, how should we approach the question?
  6. John MoffatTutor
    That is dealt with in the earlier examples in this chapter.
  7. Salma
    Hi John,

    I understand that we have lost $4 contribution of X but why did we multiply with the 10 hrs of Y?
  8. John MoffatTutor
    It is Y they are transferring and Y takes 10 hours per unit. Every hour taken for Y takes 1 hour away from production of X and that loses them $4 per hour.
  9. Tim
    Hi Sir,

    With reference to Example 8, should the answer be written as minimum transfer price = $110 or minimum transfer price > $110?
    I just wanted to clarify the correct symbol ( = or > ) to use in the exam. If it is " = ", then does this mean that, in theory, the transferring division earns the same amount of contribution by selling externally or internally to another division, but would prefer the latter because it would achieve goal congruence ?

    Many Thanks in advance!!
  10. John MoffatTutor
    Strictly it should be > $110, but it really doesn't matter for the exam.
  11. Mo
    Hi John,
    Thanks for your lectures
    I study for retaking F5 paper as I didn't know your lectures last time.
    Your lectures help me understand well
    Thanks.
  12. John MoffatTutor
    Thank you for your comment :-)
  13. Amna
    heyy
    how is the marginal cost 70 in the minimum T.p??
  14. John MoffatTutor
    It is given in the question that the variable. cost per unit of Y is $70.
  15. Vidhi Dhakan
    Why we have to use x 4$contribution per hr rather than y 3$ contribution per hr??
  16. John MoffatTutor
    Because making Y is taking hours that would have been used to make X, so we are losing $4 contribution per hour.
  17. Lily
    Thank you! John
    Your explanation is so clear!
  18. John MoffatTutor
    Thank you for your comment :-)
  19. accablessing0110
    Hi!
    Mr. John

    Thanks for the quick response
  20. accablessing0110
    Hi John,
    I find your videos and approach very useful okay

    I now feel like solving more and more past questions on transfer pricing so I can get used to how these questions come, is there any way one could have past questions on this topic lined up? For ease , please!!!

    Thank you!
  21. John MoffatTutor
    You need to buy a Revision Kit from one of the ACCA approved publishers. They are full of past exam questions and other exam-standard questions.
  22. accablessing0110
    Hi,
    John

    Thanks for the quick response
  23. Garvit
    Thanks for your lecture sir
    I am bit confused as I thought the lost contribution will be 4-3=1. So the transfer prices will be 70+ 1*10(hr)= 80 . Since I think that by producing y , they would be earning at least 3$ per hour instead of $4. So lost contribution is $1 per hour.
  24. Ster
    They wouldn't be producing Y at all if Division B didn't exist. (Since at an external selling price of 100, Y makes less contribution than X.) So, the lost contribution would then be the amount that X would have made in that time (to make one unit of Y).

    Also, why would they sell Y to Division B at an even lower price than that (80 from your question) where the contribution per hour for Y would be only $1 (far less profitable than selling externally, which Division A already doesn't care to do as X is a more profitable product).
  25. taofeeq11
    Dear sir,

    Thank you for your lectures! May God bless you.

    I attempted example 8 before watching the lecture as advised. I arrived at $110. However, my rationale was different as follows:

    Division A will only be motivated to transfer product Y to division B, if B pays at least $100 (the external price, so there is no loss of contribution to A, in view of the limited capacity and unlimited external demand). In addition, every time A produces and sells product Y at $100, there is a loss of $10 contribution ( the10 hours required to produce one Y will produce 2 Xs, will gives $40 contribution instead of $30)

    Hence Minimum transfer price > marginal cost + loss contribution due to external price + loss contribution for producing Y instead of X i.e. 70+ 30+ 10.

    Did I arrive at the $110 by coincidence?
  26. Tan
    Hi John,

    Can I say that we always add lost of contribution if there is a limited production capacity?
  27. John MoffatTutor
    Yes (assuming of course that there is lost contribution because they would otherwise be selling goods elsewhere :-) )
  28. Tan
    Thank you John!
  29. israabbas
    Hi, Ms. Jhone that was very informative I didn't need to read it even thank you. I just wanted to ask you a very tiny thing?

    if $70 was the marginal cost for Y then what is the $30 given in the example represents.
    am saying this because you deduct the 70 from 110 and the result was the contribution cost.
  30. John MoffatTutor
    $30 is the contribution per unit from product Y (the selling price of 100 less the variable cost of 70),
  31. israabbas
    am very shamed to ask such silly question forgive me perhaps I was hungry :)
  32. John MoffatTutor
    Don't be ashamed (and I hope you are less hungry now) :-)
  33. John MoffatTutor
    But they wouldn't be selling Y externally. If they were not selling to the other division they would make X and sell that externally because it would give a higher contribution.
  34. LEO
    Sir
    Minimum transfer price that should be charged should be 140 ?
    I mean Y is selling the product externally for 100...
    70 the mariginal cost and 30 the contribution
    So if division A is selling Y to division B
    They should get
    70 the marginal cost + 30 lost contribution by selling externally + (10*4=40) contribution lost by not selling X ... so the total should have been 70+30+40 = 140 isn’t it?
    I’m little confused here
    Please do help sir
  35. ahmedakande019
    yes, because profit has to be made on producing Y, the contribution(less and cost saving) should be added to the marginal cost with the lost contribution of 40, in total Minimum tranfer price A should charge for producing Y should be 100(variable cost plus) and 40(lost contribution on X) in total 140...

    Please sir could you clarify?

    Thanks
  36. John MoffatTutor
    The variable cost of producing Y is not $100. If you look at the question in the free course notes, then variable cost is $70.

    So the transfer price for Y is 70 plus the lost contribution on X of 40, and so is $110.

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